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Thursday, January 23, 2014

Funding Retirement With Life Insurance

I found Dan Moisand's September 6th column “ Funding retirement with life insurance? Be wary” lacking in understanding and veracity. It is sad to see advisers being called experts yet still dealing with insurance products as though we are in the 1950's.

First, while different advisers say different things depending on their own education, experiences and biases, there is one thing a client can always count on. The math. Math never lies. Whenever an adviser makes a recommendation, checking the math and the assumptions behind the math will show the truth.

Regarding Mr. Moisand's assertion that if you take loans from an insurance policy there is a massive tax trap waiting for you; this is just not true for a properly designed Equity Indexed Universal Life Insurance policy. This is the type of policy designed for and most often recommend for the retirement plan the questioner was asking about. These policies come with over loan provisions that by contract make sure the policy always stays in force and prevents the policy from ever being over loaned. Therefore, the tax issue Mr. Moisand warned of does not exist.

Mr. Moisand's second point is that the policy is too expensive. The question should be “too expensive as compared to what?” Mr Moisand makes allusions. Let me use some math facts. Yes, there are insurance costs and premium loads and a policy fee but what about the costs of alternative investments? Let use a large Cap stock Mutual fund compared to a EIUL with a return based on the S&P 500 index without dividends. Other indexes are also available.

First, what are the fund expenses? Morning Star reports the the average fund expenses are 3.09 %. A recent Kiplinger's article had an average stock fund fee at 1.19% and the unseen trading costs at 1.44%. That gets us 2.63% then you have to add taxes and of course the adviser's annual management fee. That would be 1 to 1.5%... No matter how you slice it, 3% in total annual costs is very fair. Now let's assume $12,000 a year invested for 20 years.

If we look at the last 20 years ending December 2012 using 3% expenses the mutual fund would be worth $295,700 while the EIUL cash value would be $483,000 net after all expenses. Why? EUILs do not have losing years. When the market goes down an insured index product does not lose money. Also, the insured indexed product locks in gains so once you have money credited to your account you can't lose it in a market downturn. As to expenses, insurance is front loaded while mutual funds are back loaded. By that I mean that as your mutual fund value grows over time your annual fee costs also grow. On $10,000 your costs are $300 but on $100,000 your costs are $3,000. EIUL works in an opposite fashion; the main costs are paid up front. In a properly designed product, by the 20th year your costs may be down to .30 basis points. Much better than 300 basis points.

What about the future and the problems with projections. Was Mr Moisand or any other financial planner in 1999 showing clients a 1.5% return? Yet, that was the return on the S&P from 1999 to 2012. An indexed product would have returned over 6% during the same period.

Does this mean that EUIL is for everyone? No. It is a long term product, and not right for everyone. Are all products the same? No. There are only 5 companies that have a product I would recommend. However to dismiss it as ”unlikely to be a good deal” is flippant and a disservice to those looking for sound advice. The math tells the truth and that truth is that based on historical market returns a properly designed EIUL from a good company can be a very good deal.